First State of N.M. Breathing Easier After Branch Deal

With the pending sale of its Colorado branches, the pressure to raise capital is off for First State Bancorp. in Albuquerque, but it still must contend with rising problem loans.

H. Patrick Dee, the $3.4 billion-asset company's chief operating officer, said in an interview that its construction loans in particular likely will remain a headache.

"That's one of the things we're preparing for, and why we think it's important to get our capital ratios up, to be able to weather whatever problems we might have there in the future," he said. "We expect to continue to see more problems in that portfolio as we go forward."

First State announced Wednesday that the $4.3 billion-asset Great Western Bank in Watertown, S.D., agreed to buy its 20 Colorado branches.

Great Western, a unit of National Australia Bank Ltd., would take $444 million of loans and $477 million of deposits in the deal.

But First State would retain $210 million of loans from those branches — including all of the problem loans and all of the construction loans.

"This deal gives them a much-needed boost in their capital," said James Schutz, an analyst at Sterne, Agee & Leach Inc. "But it doesn't really do much for their asset-quality situation, because they're taking all of the problem loans with them."

First State, which has grown quickly by making three acquisitions over the past three years, has been downsizing lately, as losses on construction loans have mounted. Last year it closed its two branches in Utah. The Colorado sale would leave it with 36 branches in New Mexico and four in the Phoenix area.

"We are certainly sad to set a course to exit the Colorado market, which we worked very hard to put together over the last five years," Michael R. Stanford, First State's president and chief executive, said on a conference call Wednesday.

But he said the sale would allow First State to focus "more attention and energy" on New Mexico and Arizona. It would have about $3 billion of assets after the transaction.

"New Mexico alone provides a good economy of scale, and the Arizona market, though currently challenged, will provide us an excellent long-term growth opportunity," he said.

Dee said the company had trimmed its construction loans to 32% of its portfolio at yearend.

But with the branch sale, the construction loans would rebound to 38% on a pro forma basis. Nonperforming assets also would climb.

Christopher C. Spencer, First State's chief financial officer, said on the call that nonperforming assets would increase to 4.39% of total loans, from 3.98% at yearend.

But the executives said the pared-down First State would be in a much stronger position to deal with potential losses. The total risk-based capital ratio at its First Community Bank would jump to 12.4%, from 10.3% at yearend. The need for capital was the impetus for the branch sale, as a regulatory agreement required boosting that ratio to 12%.

Schutz, who rates the stock a "buy," said the remaining question for First State is how much more loan trouble lies ahead, both from the construction sector and the broader economy. "It's a game of trying to guess exactly what the damage is going to be," he said. "So far New Mexico looks OK, which is the bulk of their remaining market. But they still have nonperforming loans from Colorado and Utah that they have to work through."

Because of a surge in nonperformers and chargeoffs, the company swung to an $8.5 million loss in the fourth quarter, from a $4.5 million profit a year earlier.

Schutz said he expects more losses. "We're forecasting some pretty substantial chargeoffs over the next eight quarters," he said. "It's not over."